Tablet addiction to grow, says Imagination Technologies

By John Harrington

Date: Tuesday 19 Jun 2012

Stockwatch

Go-go stocks often find the market turning against them when performance switches from 'sensational' to merely 'very good' and it seems that is the case with chip designer Imagination Technologies.

The shares, trading above 700p as recently as April, have fallen below 450p, with further falls suffered in the wake of a set of full year results on Tuesday which, on the face of it, looked solid enough.

Revenue in the year to April 30th rose 30% to £127.5m from £98.0m a year earlier, while gross profit jumped 38% to £106.5m from £77.3m the year before, leading to an improvement in the gross profit margin to 84% from an already eye-catching 79% in the previous year.

Adjusted profit before tax surged 53% to £36.8m from £24.0m in the previous year, ahead of the market consensus of £36.5m, although adjusted earnings before interest and tax (EBIT) was £21.4m, and this was only 0.8% above consensus.

Investment analysts, however, prefer to focus on what's coming down the road rather than dwelling over-much on the rear view mirror, and with the shares still trading on a multiple of around 35 times next year's projected earnings, despite the recent share price fall, there is little or no scope for Imagination to put a foot wrong.

Royalties the bedrock of the business

Hossein Yassaie, Imagination's Chief Executive, is "very confident" the firm can maintain its momentum. "We have seen very strong royalty growth. Partners' chip shipments increased by a third to 325m units, which is at the upper end of expectations, as our customers shipped more devices. Despite this, we increased the average royalty rate, which we are delighted about, as more of our IP (intellectual property) gets used in devices," Yassaie told Sharecast, adding that royalties are "the bedrock of the business."

The company's presentation package to investors notes that of the 325m units shipped during the financial year, 202m of these were lobbed out in the second half of the year, which was some 8% more than broker Cazenove had been forecasting.

Royalties revenue from the Technology part of the business grew by 55% to £63.8m from £41.3m the year before. Licensing revenue improved by 21% to £34.4m from £28.5m but there was, perhaps, an air of disappointment in the market about this level of growth.

More than just a graphics company

However, Cazenove, which has an "overweight" rating for the stock, highlighted the substantial increase in licensing to Chinese customers. "Despite its reputation as being the high-end mobile graphics company, recent licensing at Imagination shows that it is expanding beyond its core high end markets with considerable licensing to Chinese customers-Actions Semi, Allwinner, HiSilicon, Ingenic, Rockchip, ZTE. These wins will allow IMG [Imagination} to substantially grow units in the fast growing China market," wrote Caz's Sandeep Deshpande.

Peel Hunt, meanwhile, sees some scope to raise fiscal 2013 (FY2013) estimates by around 5%. Peel Hunt's Alex Jarvis notes that Imagination has reiterated its target of seeing its IP being shipped in one billion units a year by 2016. "This rate of growth would underpin EPS [earnings per share] growth of some 30-35% pa over the next four years – implies FY2016 EPS around 33p," Jarvis estimates.

Yassaie echoed that theme in his interview with Sharecast. "Our technology is being deployed in all the markets we care about, and it is not just in graphics; we are seeing deployment across several technologies," he said.

Pure to play its part

The opportunity to branch out in to other technologies is one of the reasons why Pure, the digital audio broadcasting (DAB) arm is of strategic importance to Imagination even if, as of yet, it is not making the company any money.

Pure's revenue edged up 3% to £29.3m from £28.3m the year before, despite a sluggish UK market. Adjusted operating loss widened by 5% to £2.9m from £2.8m the year before, but the company has no intention of offloading the division, even though it seems a little out of place in the scheme of things.

"Pure drives certain markets for us, and provides prototyping opportunities in media streaming, connectivity and so on. It is also key to the subscription service we aim to develop," Yassaie said. Like every other tech company on the planet, it seems, Imagination has designs on leaving a footprint in the cloud - if that is not a contradiction in terms - from which it can stream content, whether it be to DAB radio, smartphones or tablets.

Further down the pike Pure plans to unleash some home automation connected products which should see the company take a major step towards profitability.

Broker Singer Capital Markets seems happy with the progress being made by Pure and is enthused by the opportunities that remain for the firm's system-on-chip offerings. "The full exploitation of Imagination’s technologies is said to be at an early stage in many markets. Smartphone growth is likely to continue to support growth in graphics, whilst tablets should make a notable contribution over the coming year," the broker said, the day after Microsoft unveiled two touch-screen devices due to be launched in October as rivals to Apple's phenomenally successful iPad.

Microsoft belatedly re-entering a market it pioneered offers Imagination an opportunity, Yassaie said, and shows that the whole hand-held gizmo market is growing phenomenally fast, even if it a bit faster than some established operators such as Nokia and Research In Motion would like.

"We have no real dependency on one particular customer. We don't concern ourselves with individual companies. The market as a whole is growing fast, with smartphone sales expected to be three times higher by 2015, and we remain very confident about the continued growth in demand for our IP families," Yassaie concluded.

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